On February 15, 2016, Russian President Vladimir Putin signed Federal Law N 32-FZ (amending Chapter 3.4. of the Russian Tax Code (Tax Code) with regard to controlled foreign corporations (CFCs)) and Federal Law N 25-FZ, which revises existing thin capitalization rules (Article 269 of the Tax Code). We will address each of these laws in turn below.
Amendments to CFC Rules – BEPS Action 3
The following are some of the key amendments presented by Federal Law N 32-FZ:
- Clarification of the rules for calculating a CFC’s profit/loss for tax purposes. The taxpayer now has the right to choose between two methods of calculating the profit/loss of a CFC: Calculation based on financial statements compiled for the financial year according to the domestic law of the CFC, or according to the Tax Code. The amendments also eliminate mandatory audits of statements, which were previously used to calculate a CFC’s profit.
- Clarification of the definition of a “person beneficially entitled to income.”
- Elimination of double taxation at the level of the controlling party of dividends paid by a CFC from profit that was already included in the tax base of that controlling party in accordance with the rules on CFCs in prior tax periods (provided that the person directly holds an interest in the CFC).
- Extension until January 1, 2018 for both the controlling party and the CFC to apply special benefits when the CFC is liquidated.
- Clarification of the requirements for exempting the profit of CFCs that are issuers of outstanding bonds (or are authorized to receive interest income on such bonds).
- Updates to the procedure for determining an entity’s interest in an organization, as set forth in Article 105.2 of the Tax Code.
- Exemption from personal income tax and profit tax for dividends received from a foreign corporation if the actual source of payment is a Russian entity, and tax has been withheld on the income subject to Article 312 of the Tax Code.
- Exemption from personal income tax (up to the value of the assets contributed) for assets, including funds, and property rights transferred by a foreign structure (unincorporated) to its controlling party, provided a number of criteria are met.
- Updates to the rules for filing notices about CFCs and participation in foreign entities.
- Extension of the filing deadline to three months (from the date the grounds for filing the notice arises) to file a notice of participation or ceasing of participation in a foreign entity (or of the establishment (termination) of a foreign structure).
- Clarification of circumstances where the taxpayer may be released from liability.
- Clarification of certain provisions of the Tax Code related to foreign entities that are also Russian tax residents.
The CFC Law enters into force as of the date of its official publication, except for specific provisions. In particular, a number of the amendments are retroactive.
Amendments to Thin Capitalization Rules – BEPS Action 4
On February 15, 2016, President Putin also signed Federal Law N 25-FZ, which revises the existing thin capitalization rules and expands the scope of their application (the “Thin Cap Law”). A new favorable exemption for loans from unrelated banks can be applied as of January 1, 2016. Other changes become effective as of January 1, 2017.
Federal Law N 25-FZ follows from existing court practice and extends the application of the thin capitalization rules to loans from foreign companies which are not direct or indirect participants of the borrower. The Thin Cap Law also introduces a number of favorable exemptions e.g., (i) for loans from related Russian companies if such companies do not pay interest abroad or (ii) for loans from unrelated banks guaranteed by group companies in the absence of payments under such guarantees.
Federal Law N 25-FZ revises the scope of debts to which the 3 to 1 thin capitalization ratio applies (“controlled debt”) to include loans from:
- A foreign related party, i.e. an individual or a company (i) which owns directly or indirectly 25% or more of a Russian borrower or (ii) which owns more than 50% in each company in a direct holding chain of a Russian borrower (“Foreign Participant”).
- A person (either foreign or Russian) related to the Foreign Participant (including direct or indirect participants, subsidiaries and sister companies) (“Related Person”).
- Any other persons if the debt is guaranteed or otherwise secured by any person mentioned under the previous two categories.
Federal Law N 25-FZ exempts the following categories from controlled debt:
- Debts to Russian Related Persons where loans are provided from the lenders’ own funds and there is no back-to-back financing where interest income is effectively transferred abroad.
- Debts to an unrelated bank guaranteed or otherwise secured by a Foreign Participant or a Related Person if there has been no payment on such guarantee or security.
- Debts to foreign special purpose vehicles (SPVs) – issuers of Eurobonds that are resident in tax treaty countries.
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